Wow.
Good they are standing behind their work. Hopefully hat will continue as it becomes clear how much this is going to cost them. I'll bet the other mechanic is looking for a job.
I would check carefully on the heritage of any replacement engine. How many hours on the existing engine? Perhaps even push for a factory reman?
And at some point it's probably worth capturing in writing that this is all in them. I have usually done that in simple email exchanges which gives an excellent written record. It's also a good way to document everything as it transpires, and is less hostile that asking for a separate written statement. As soon as anyone senses people lawyering up, things will likely come to a grinding halt.
Good luck with it all, and I think your constructive attitude will serve you well through this.
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